Question

using the US debt clock

What do YOU think about the public debt? Do you agree or disagree with the video? Which part and why/why not? Try to use the economic concepts you have learned from this course, and minimize any political leanings.

What kinds of changes can we expect in government spending OR tax increase OR BOTH to bring the deficit down?

What else can be done to bring the public debt down besides change in government spending or change in taxes?

Is the current administration and congress succeeding in reducing the debt? How and why/why not?

Answer 1

The U.S. debt is the sum of all outstanding debt owed by the federal government. On February 11, 2019, it exceeded $22 trillion. It passed the milestone of $21 trillion on March 15, 2018.

Two-thirds is debt held by the public. The government owes this to buyers of U.S. Treasury bills, notes, and bonds. That includes individuals, companies, and foreign governments.

The remaining third is intragovernmental debt. The Treasury owes this to its various departments who hold Government Account securities. Social Security and other trust funds are the biggest owners. They have been running surpluses for years. The federal government uses these surpluses to pay for other departments. These securities will come due as baby boomers retire over the next two decades. Since Social Security and trust funds are the largest owners, the answer as to who owns the U.S. debt the most would be: everyone’s retirement money.

In the short run, the economy and voters benefit from deficit spending. It drives economic growth. The federal government pays for defense equipment, health care, and building construction. It contracts with private firms who then hire new employees. They spend their government-subsidized wages on gasoline, groceries, and new clothes. That boosts the economy. The same effect occurs with the employees the federal government hires directly. As part of the components of GDP, government spending takes a huge chunk, most of which is allocated to military expenditure.

Over the long term, a growing federal debt is like driving with the emergency brake on. As the debt-to-GDP ratio increases, debt holders could demand larger interest payments. They want compensation for an increased risk they won't be repaid. Diminished demand for U.S. Treasurys would further increase interest rates. That would slow the economy.

Lower demand for Treasurys also puts downward pressure on the dollar. The dollar's value is tied to the value of Treasury Securities. As the dollar declines, foreign holders get paid back in a currency that is worth less. That further decreases demand. Also, many foreign holders of U.S. debt are investing more in their own countries.

At that point, the United States will have to pay exorbitant amounts just for the interest. The amount of federal spending today points to high-interest payments on the debt in the near future.

Congress realizes it is facing a debt crisis. Over the next 20 years, the Social Security Trust Fund won't have enough to cover the retirement benefits promised to baby boomers. That could mean higher taxes once the high U.S. debt rules out further loans from other countries. Congress is more likely to curtail benefits than raise taxes. That would primarily affect retirees younger than 70. It might also hit those who are high income and not as dependent on Social Security payments to fund their retirement.

Maintaining low-interest rates is another way governments seek to stimulate the economy, generate tax revenue and, ultimately, reduce the national debt. Low-interest rates make it easy for individuals and businesses to borrow money. In turn, the borrowers spend that money on goods and services, which creates jobs and tax revenues.

Low-interest rates have been employed by the United States, the European Union, the United Kingdom and other nations with some degree of success. That noted, interest rates kept at or near zero for extended periods of time have not proved to be a panacea for debt-ridden governments.

Candidate Trump had two strategies to reduce the U.S. debt. He promised to grow the economy 6 percent annually to increase tax revenues. But once in office, he lowered his growth estimate to 3.5 percent to 4 percent.

These projections are above the 2-3 percent healthy growth rate. When growth is more than that, it creates inflation. Too much money chases too few good business projects. Irrational exuberance grips investors. They create a boom-bust cycle that ends in a recession. Trump’s Fiscal Year 2020 budget lowered annual growth rates down to between 2.4 percent and 2.9 percent annually.

Trump promised to achieve 4 percent growth with tax cuts. In his first 100 days, he released the outline of would become the Tax Cuts and Jobs Act. It cut the corporate tax rate from 35 percent to 21 percent beginning in 2018. The top individual income tax rate drops to 37 percent. It doubles the standard deduction and eliminates personal exemptions. The corporate cuts are permanent, while the individual changes expire at the end of 2025.

But Trump's tax cuts won't stimulate the economy enough to make up for lost tax revenue. According to the Laffer curve, tax cuts only do that when the rates were above 50 percent. It worked during the Reagan administration because the highest tax rate was 90 percent.

Trump’s second strategy is to “eliminate waste and redundancy in federal spending.” He demonstrated cost-consciousness in his campaign. He used his Twitter account and rallies instead of expensive television ads. He outlined his cost-cutting strategies in his book, "The Art of the Deal."

Trump was right that there is waste in federal spending. The problem isn't finding it. Both Presidents Bush and Obama did that. The problem is in cutting it. Each program has a constituency that lobbies Congress. Eliminating these benefits loses voters and contributors. Congress will agree to cut spending in someone else’s district, but not in their own.

Any president must cut into the biggest programs to make an impact on the debt. More than two-thirds of government spending goes to mandatory obligations made by previous Acts of Congress. For FY 2020, Social Security benefits cost $1 trillion a year, Medicare costs $679 billion, and Medicaid costs $418 billion. The interest on the debt is $479 billion.

To lower the debt, military spending must also be cut. The most Obama spent was $855 billion in FY 2011. The most Bush spent was $666 billion in FY 2008. Instead of cutting, Trump is breaking all those records. Military spending rose to $989 billion in FY 2020.